What happened in climate-related financial regulation last month, and what’s coming up
The US Securities and Exchange Commission (SEC) ended its consultation on a proposed rule to enhance ESG fund disclosures on August 16. The agency received over 170 comment letters from financial industry associations, lawmakers, and non-governmental organizations, among others.
A letter from 21 Republican state attorneys-general demanded that the SEC scrap the proposal, claiming it would be “illegal and misguided.” They argued that the rule — which would force fund managers to publish ESG-related data about their products in prospectuses, annual reports, and adviser brochures — exceeds the SEC’s authority and would unfairly compel the disclosure of non-material information.
In contrast, a separate letter from seven Democratic state attorneys-general supported the SEC proposal. “Without the disclosure requirements advanced in the Proposed Rule, individuals who want to invest according to their values must navigate through inconsistent, ambiguous, and often misleading statements used to promote various ESG strategies, or, worse, they must endure outright fraud,” the letter said.
The draft rule was published by the SEC on May 25. If implemented, it would mandate specific disclosure requirements for funds belonging to one of three categories:
- “Integration funds”, which incorporate ESG factors alongside non-ESG factors when making investment decisions, would have to report how they embed ESG factors in their investment processes;
- “ESG-focused funds”, which prioritize ESG in their investment decision-making, would have to produce a standardized ESG strategy overview table;
- “Impact funds”, which invest to achieve specific ESG goals, would have to disclose how they measure progress toward their objectives.
In addition, “ESG-focused funds” that incorporate environmental factors would have to calculate and disclose the carbon footprint and weighted average carbon intensity of their portfolios.
On August 25, the SEC adopted a rule change that forces some public companies to report information on their executives’ pay and how it relates to the performance of their business. Companies have the option under the rule to include non-financial performance measures in a list of three to seven “most important” measures used to set compensation.
Hester Peirce, a Republican member of the Commission, said the rule could make companies “feel compelled to tie their executive pay to the prescribed financial performance measures or to incorporate non-financial performance measures, such as environmental, social, and governance metrics.”
However, Democrat Commissioner Caroline Crenshaw said that the rule does not regulate the way companies pay their leaders. It only allows investors to better understand how their performance is measured.
The state of Texas blacklisted 10 banks and assets managers it claims are boycotting energy companies. State entities, including public pension funds, will be barred from investing in the companies and may have to sell their existing stakes in them as well.
BlackRock, BNP Paribas, Credit Suisse, Danske Bank, Jupiter Fund Management, Nordea, Schroders, Svenska Handelsbanken, Swedbank, and UBS were placed on the list by state Comptroller Glenn Hegar on August 24. Hegar also identified 350 funds that state entities will be prevented from investing in because of their fossil fuel policies.
The companies have 90 days to appeal the Comptroller’s decision.
The blacklist follows the passage of Texas Senate Bill 13 last year, which prohibits state entities from investing in or contracting with firms determined to be boycotting energy companies. To enact the law, Hegar sent letters to over 100 financial institutions to gather information on their fossil fuel investment policies.
The Florida State Board of Administration adopted a proposal by Governor Ron DeSantis that orders the state’s pension fund to disregard ESG considerations when making investment decisions.
The measure, enacted August 23, orders fund managers to make investment decisions “based only on pecuniary factors [which] do not include the consideration of the furtherance of social, political, or ideological interests.” Administrators are also barred from sacrificing investment returns or taking extra investment risk “to promote any non-pecuniary factors.”
ESG disclosure requirements for European Union (EU) asset managers entered into force on August 2.
The rules are part of the EU’s Markets in Financial Instruments Directive (MIFID II), a legislative package covering the bloc’s securities markets, investment intermediaries, and trading venues. Under the provisions that came into effect in August, asset managers must share ESG-related data on their products with fund distributors and insurers.
This data has to be published in a standardized European ESG Template (EET), which contains 580 data fields in total — although not all of these are relevant for every sector or geography. Much of the requested information should be produced by companies under other EU laws, including the Sustainable Taxonomy Regulation and Sustainable Finance Disclosure Regulation (SFDR).
Another set of MIFID II rules now in force require financial advisers to incorporate their customers’ sustainability preferences when selling them investments. To accommodate these preferences, advisers will have to offer products that: i) invest a minimum proportion in environmentally sustainable investments as defined under the Sustainable Taxonomy; ii) invest a minimum proportion in sustainable investments as defined under the SFDR, or iii) consider “Principal Adverse Impacts” on sustainability factors.
The European Commission (EC) has instructed regulatory agencies to investigate and report on greenwashing across the EU’s financial markets.
In a call for advice published on August 15, the Commission requested that the European Banking Authority, European Securities and Markets Authority, and European Insurance and Occupational Pensions Authority (collectively known as the European Supervisory Authorities, or ESAs) produce individual reports on how greenwashing and its related risks affect their areas of competence. These reports should also touch on the “implementation, supervision and enforcement of sustainable finance policies aimed at preventing greenwashing.”
The EC wants the reports to evidence the scale and frequency of potential greenwashing across the EU and give an overview of the supervisory practices and tools to combat it. The EC also expects the ESAs to recommend any improvements to the EU legislative framework that could better address greenwashing risks.
The EC has asked for progress reports to be produced by August 15, 2023, and final reports the year after that.
The European Securities and Markets Authority (ESMA) has endorsed plans to introduce an “EU ESG benchmark label” to identify investment indices that meet high environmental, social, and governance standards.
Benchmarks are groupings of financial instruments used by asset managers to construct funds and identify suitable investments for clients. European policymakers are working on rules that would govern EU Climate Transition Benchmarks, EU Paris-aligned Benchmarks, and sustainability-related disclosures for benchmarks — initiatives designed to tackle greenwashing and prompt investors to support the low-carbon transition.
In an August 12 response to the European Commission’s consultation on the bloc’s Benchmarks Regulation review, ESMA said a labelling regime was justified to combat greenwashing by investment managers and benchmark providers. “[T]he absence of clear labelling raises questions on the inclusion of firms with a negative environmental or social impact in these benchmarks,” ESMA wrote.
The authority added that regulators should specify minimum methodology standards that benchmark providers would have to meet in order to earn the ESG label. “Enhanced transparency requirements on the methodology would help to reduce information asymmetries between benchmark administrators and users of benchmarks and help investors to make an informed assessment of the sustainability-related claims of the benchmark,” ESMA wrote.
The European Insurance and Occupational Pensions Authority (EIOPA) published final guidance for insurers and reinsurers on incorporating climate change into their Own Risk and Solvency Assessments (ORSAs).
An ORSA is the routine ‘health check’ that European (re)insurers conduct to assess the quality of their risk management. The final guidance, published August 2, describes EIOPA’s expectations when it comes to using climate scenarios as part of the ORSA process and includes recommendations on how firms can run climate risk materiality assessments.
EIOPA said that at present few (re)insurers gauge their climate risks using scenario analysis in the ORSA. Furthermore, those firms that run quantitative climate risk checks generally do so over a short time horizon. The guidance is intended to elevate insurers’ climate risk practices and encourage forward-looking management of both physical and transition risks.
The final guidance follows an industry-wide consultation conducted by EIOPA from December 2021 to February 10 of this year.
The UK’s Financial Conduct Authority (FCA) is recruiting experts to sit on a new “ESG Advisory Committee”, which will help align the agency’s activities with the country’s climate agenda.
The request for applications was issued on August 23. Interested parties have until September 16 to apply. The Committee is intended to advise the FCA Board on its ESG strategy, keep it up to date on emerging ESG issues, and advise on the oversight of ESG-related matters.
On August 9, the FCA’s Head of Asset Management and Pensions Policy sent a letterto the chief executive officers of hedge funds and private equity companies, warning those which sell ESG investments that they may be “subject to review to ensure marketing materials accurately describe their product.”
The letter said that ESG product documentation should be “clear, not misleading” and that the products themselves must “match the stated [ESG] claims.”
“It is important that investors have confidence in the products they are being offered, and this has specific relevance for products labelled as being ESG focussed and with investment strategies benchmarked against ESG themes,” the letter said.
The UK’s Prudential Regulation Authority (PRA), together with the FCA, published the minutes of a July meeting of the Climate Financial Risk Forum (CFRF) on August 18.
The CFRF is an industry forum convened by both the FCA and PRA to share best practices on climate scenario analysis, risk management, disclosure, and innovation. At the meeting, members discussed how the CFRF could help guide the financial industry through the current external landscape and what it means for companies’ short-term climate risk management plans and long-term emissions targets.
The CFRF also explored companies’ difficulties with meeting the UK’s climate disclosure requirements concurrently with those in other jurisdictions. Members were broadly supportive of the climate disclosure standards proposed by the International Sustainability Standards Board (ISSB). However, they believe any global standards should overlap with reporting standards in other jurisdictions. CFRF members will meet in October next to discuss any updates.
The Central Bank of Ireland has published draft guidance on climate risks for insurers and reinsurers.
Published August 3, the guidance includes recommendations for developing climate governance and risk management frameworks, and establishes the Central Bank’s expectations for how firms should address climate risks to their businesses.
Only 20% of Irish (re)insurers fully incorporate climate change in their risk management frameworks, a 2021 survey by the Central Bank found. In addition, less than half of firms were found to run some kind of climate scenario analysis or stress testing.
The Central Bank’s expectations, spelled out in the guidance, concern: (re)insurers’ climate risk governance; their assessment of the materiality of climate-related exposures; their use of scenario analysis and Own Risk and Solvency Assessments (ORSA); their strategy and business models; their risk appetite statements; their ongoing risk management; and their reserving, capital, underwriting, pricing and investments.
The draft guidance is open for public consultation until October 26.
Germany’s Bundesbank is hosting an online seminar on climate-related risks in central banks’ risk management on September 28.
Participants will learn what steps the Bundesbank has taken to tackle climate risks to its own balance sheet, including the different approaches and metrics used. The seminar will also describe sustainable investment strategies.
The session is aimed at central bank employees who are working on climate-related risks. Participants must register their interest by September 16.
The Banque de France (BdF) published a rundown of climate scenario exercises conducted by central banks and supervisors.
In its latest bulletin, published August 11, the BdF said that 31 climate exercises have either concluded or are in process, and that three-quarters of these use or build on the scenarios devised by the Network for Greening the Financial System (NGFS).
The BdF analysis also found that most central banks and supervisors believe the goal of these exercises is to raise awareness and develop expertise on climate. Furthermore, most exercises used both top-down (supervisor-led) and bottom-up (financial institution-led) approaches.
On August 17, Switzerland’s Federal Council adopted a framework that will act as a basis for the issuance of the country’s first green Confederation bonds.
The framework was primarily informed by the International Capital Market Association’s Green Bond Principles, which are the de facto global standards for green bond issuance. The framework maps out how the green bonds will overlap with Switzerland’s sustainability strategy, what green expenditures can be allocated toward the bonds, and how these will be reported.
The Swiss Federal Council approved the green bond framework as it wants to strengthen Switzerland’s role in sustainable financial services. Through the green Confederation bonds, the council intends to promote the use of international standards within the Swiss capital market and to encourage private sector entities to issue their own green bonds. Financing raised through the green bonds may go toward initiatives that have a “positive environmental impact,” including nature preservation, the construction of eco-friendly buildings, and public transport. Switzerland’s first green bond will be issued in the fall. Issuance details are still unclear and will depend on funding requirements and market conditions.
The Bank of Japan (BoJ) and the Japan Financial Services Agency (FSA) completed a pilot climate scenario exercise with three banks and three insurers.
In an English-language report on the exercises published August 26, the results showed that the banks’ projected credit losses due to physical and transition risks were lower than their annual net income and that each lender “had the capacity to conduct a risk analysis” for the scenarios used. The BoJ and FSA used three scenarios devised by the Network for Greening the Financial System (NGFS) for the exercise.
The results for the insurers showed policy claims are projected to rise as temperatures increase. But the regulators also said that analyzing specific physical climate risks is “insufficient to assess the changes in the probability/frequency of the occurrence of disasters in the future and that the results vary due to limitation in uniformity of assumptions and risk models.”
The BoJ and FSA said they would continue to engage with financial institutions on “methods and practical application of the scenario analysis” and would “contribute to the improvement of standard scenarios and international data initiatives” by sharing the results with other central banks and supervisors.
On August 5, the BoJ published the results of a survey on how Japanese financial markets are addressing climate change.
Securities issuers, investors, financial institutions, and rating agencies were invited to answer the survey, and 290 responded. Over 50% of participants said they believe that climate-related risks and opportunities are “reflected” or “somewhat reflected” in stock prices, and 40% said the same about corporate bond prices. In addition, a majority of respondents said they believe that climate-related risks and opportunities are more reflected in prices than a year ago.
When asked what steps would be necessary to better reflect climate-related risks and opportunities in stock and corporate bond prices, 70% of respondents said “enhancing and/or standardizing information disclosure” and 60% “increasing investors and/or issuers that place a high value on climate-related risks and opportunities.” Half of respondents also said “improving transparency in ESG evaluation” would help.
The BoJ intends to refine and repeat the survey in order to gather better information on how Japan’s financial markets factor in climate risks and opportunities.
The China Securities Regulatory Commission (CSRC) has ordered the countries’ top exchanges to ensure green bonds issued through their platforms accord with new green bond principles, Reuters reported on August 24.
China’s Green Bond Standards Committee unveiled the principles on July 29. These require that 100% of the proceeds of sold green bonds go toward green projects. The prior standard required just half to be earmarked in this way. Unlike in other jurisdictions where similar green bond principles are voluntary, the CSRC are making them mandatory for exchange-traded bonds.
New climate-related disclosure standards for large fund managers set by the Hong Kong Securities and Futures Commission (SFC) entered into force on August 20.
The standards require managers that oversee more than HKD$8 billion in assets to identify “relevant and material physical and transition climate-related risks for each investment strategy and fund” and take “reasonable steps to assess the impact of these risks on the performance of underlying investments.” Smaller funds will have to apply the standards by November this year.
The SFC rules build on the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD), and cover climate governance, investment management, climate risk management, and disclosure.
An official at the Reserve Bank of Australia (RBA) has said banks have “more work to do” when it comes to climate-related financial risk management.
In a speech on August 24, Jonathan Kerns — the RBA’s Head of Domestic Markets — said lenders have “less experience modelling the financial impacts of climate events” than insurers and need to enhance systems and procedures to bring their risk management up to scratch.
He also highlighted the dangers Australian mortgage lenders could face from physical climate risks. Kearns said that home values could fall in areas impacted by physical climate risks, which would make it harder for mortgage borrowers to refinance or sell their properties. As a result, mortgage lenders would have more home loans stuck on their books for a long time, backed by low-value collateral.
He added that climate risk may make it hard to insure properties in certain areas. This would also imperil mortgage lenders, since uninsured homes are likely to drop sharply in value following climate-related natural disasters.
The Australian Prudential Regulation Authority (APRA) has found that roughly one-third of financial institutions do not include climate risk as part of their strategic planning.
That’s according to the findings of a climate risk self-assessment survey published on August 4. Out of the 64 firms that participated, only a “small portion” said they had fully integrated climate change with their risk management systems and practices. Around 20% said they have no formal process to identify climate risks, and 25% said they don’t use climate risk metrics.
But the survey also found there is “reasonable cross-industry alignment” to APRA’s climate risk guidance, which was released last November. This is especially true in the areas of climate governance and disclosure. Four out of five boards, or board committees, said they oversee climate risk on a frequent basis, and 77% said they have had training in climate risk.
The Australian Securities and Investments Commission (ASIC) has said it will take enforcement action to tackle the greenwashing of funds and financial products.
In the agency’s latest corporate plan, published August 22, sustainable finance practices were highlighted as a “core strategic project.” ASIC listed five specific actions it would take in this area:
- Oversight of the sustainability-related disclosure and governance practices of listed companies, managed funds, superannuation funds, and green bonds;
- Licensing and supervision of carbon and related markets;
- Implementing a new Memorandum of Understanding with the Australian Energy Regulator to address misconduct in gas and electricity markets;
- Continue to work with peer domestic and international regulators on sustainable finance developments;
- Enforcement against misconduct, including misleading marketing and greenwashing by entities.
In an August 23 speech presenting the corporate plan, ASIC Chair Joseph Longo said the agency is analyzing ‘green’ investments and zeroing in on false claims made by firms. “We are actively monitoring the market, looking for dubious claims … Serious breaches will fall foul of the misleading and deceptive disclosure provisions in the Corporations Act, and we will take enforcement action,” he said.
The Monetary Authority of Singapore (MAS) announced that the country’s first 50-year sovereign green S$2.4bn (USD$1.7bn) bond priced at 3.04%. The country’s Aug-72 bond is the longest-tenor sovereign green bond to date.
Most of Singapore’s sovereign bond — S$2.35bn (USD$1.68bn) — was placed with accredited and institutional investors, while the remaining quantity was made available to individual investors.
“The extension of the sovereign yield curve to 50 years will further develop the Singapore Dollar bond market and support longer-tenor corporate issuances,” MAS’s Deputy Managing Director of Markets and Development, Leong Sing Chiong, said in a statement. “MAS will continue to support the pipeline of green sovereign bonds, as well as the broader development of green finance as an enabler of global efforts to mitigate climate change.”
Deutsche Bank’s Singapore branch, HSBC’s Singapore branch, the Overseas Chinese Banking Corporation, and the Standard Chartered Bank in Singapore were some of the bookrunners of the transaction.
On August 23, the Bank of Thailand (BoT) released a report that provides direction to the financial sector on transitioning to a green economy. Part of the report’s goal is to help businesses and the public prepare for the low-carbon transition while considering each industry’s circumstances and readiness. The guidance builds off a February 2022 BoT paper that set the tone to reposition Thailand’s financial sector in favor of an environmentally-friendly and digital economy.
In its August paper, BoT lays out a five-step plan to ensure that businesses experience a smooth and orderly green transition. These are:
- Issuing policy in Q3 2022 that will require financial firms to consider environmental factors in their operations and encourage them to offer financial products and services to companies;
- Creating a taxonomy to classify businesses’ activities based on their climate impact;
- Developing climate disclosure standards for financial institutions, as well as environment-related data platforms, beginning Q4 2022;
- Building incentives related to the low-carbon transition for financial firms, companies, and consumers;
- Educating financial sector workers on how to identify and manage climate-related risks and opportunities.
Through its new guidance, Thailand’s central bank is aiming to help the country achieve its carbon neutrality and net-zero goals.
The International Sustainability Standards Board (ISSB) has appointed Jingdong Hua, a former Vice President and Treasurer of the World Bank, to serve as Vice Chair.
Hua, whose recruitment was announced on August 31, will work alongside fellow Vice Chair Sue Llyod and Chair Emmanuel Faber. Hua will be based at the ISSB’s office in Montreal.
His appointment concludes the recruitment process for the 14-strong ISSB. Earlier in August, the standard-setter recruited three Board members from Europe and Japan.
On August 1, the ISSB completed its merger with the Value Reporting Foundation, a voluntary standard-setting body that oversaw the Integrated Reporting Framework and Sustainable Accounting Standards Board. The ISSB has now taken over the governance of these initiatives, and intends to integrate them with its work to design and implement a global baseline for sustainability-related reporting rules.